told analysts that the company now views its previous estimates of cash flow and sales for 2000 as ‘understated as it presses forward with plans to make nearly all of its fiber optic cable systems around the world operational by next year.'”Īs a proxy for cash flow, EBITDA was popularized by John Malone, the former CEO of Tele-Communications Inc. Global Crossing’s chief executive, Leo J. Cash flow at Global Crossing, which is based in Hamilton, Bermuda, was $1.415 billion, compared with the $1.295 billion forecast. “Although the company’s $365.4 million quarterly loss was also larger than expected, Global Crossing added $2.5625, to $27.875, in trading yesterday. Rather than maximize net income, the focus on EBIT paradoxically led corporate managers to minimize net income. Since the tax-deductibility of interest expense is unlimited, operating managers could borrow until 100% of EBIT was used for interest payments. Since interest expense is tax-deductible, operating managers could minimize corporate taxes by increasing corporate leverage: pre-tax earnings are used to pay interest expense on debt, and money that would have been paid in corporate taxes is paid to commercial lenders. Cash accounting counts a sale when the retailer pays for the order in full.īy definition, EBIT is available to pay lenders, governments and shareholders. Accrual accounting counts a sale when a product ships to the retailer. ![]() However, EBIT and cash flow are calculated using completely different accounting methods. Driven by the preference for simplicity, people began to use an income statement metric as a proxy for cash flow. Over time, operating managers began to advocate for performance metrics based on pre-tax earnings rather than post-tax earnings, and operating managers advocated EBIT as the measure of corporate performance.ĮBIT became the preferred proxy for cash flow despite its imperfections. Historically, corporate performance was measured by earnings per share (EPS). The Shift from Post-tax Earnings (EPS) to Pre-tax Earnings (EBIT) Since EBITDA invariably produces a higher number, operating managers often advance EBITDA as a proxy for cash flow. Since cash flow is a non-GAAP metric, operating managers have the creative liberty to define cash flow, and operating managers have an incentive to overstate a company’s cash flow performance. Therefore, people mistakenly conclude that EBITDA is a measure of a company’s operating performance. EBITDA is superficially mistaken as a proxy for cash flow, since it is “above the line”. capital expenditures).Īs VAR is an analytically flawed proxy for risk, EBITDA is an analytically flawed proxy for cash flow. working capital) and long-term assets (i.e. Further, EBITDA excludes investments in short-term assets (i.e. ![]() As a measure of accounting profits, EBITDA is an accounting metric based on accrual accounting, and EBITDA excludes interest expenses and tax expenses. EBITDA is generally not a suitable proxy for cash flow, since EBITDA is an income statement metric. Free cash flow also captures the notion that capital expenditures are necessary to create, to sustain and to expand a company’s competitive advantage.ĮBITDA measures accounting profits, not cash flow. While cash flow is a generic term, investors prefer free cash flow, a non-GAAP metric that represents the cash flow that is available to the company’s securities holders. Cash flow has a multitude of definitions, including cash flow from operations, free cash flow, free cash flow to equity and free cash flow to the firm. ![]() And I don’t view that as anything but positive.”Ĭash flow is measured by the cash flow statement. Leo Hindery: “We’re the kings and the queens of EBITDA, we’re all about cash flow, pre-tax cash flow, and we try not to pay taxes.
0 Comments
Leave a Reply. |